Asian Banks Use Incentive Schemes as Retention Rather Than Risk Management Tool

Asian firms are falling behind their counterparts across global financial hubs to strengthen incentive schemes to curb reckless risk taking, according to consulting firm Pretium.

The Pretium Global Banking Incentive Review Study for leading banks shows major listed banks in US, UK, Europe and Australia are ahead of the game in adopting incentive schemes with performance based features that are tied to multi-year performance metrics. In Asia, only a minority of firms in the study have similar plans in place to prevent excessive risk taking and reinforce the pay-for-performance culture.

The study examined the key incentive features of 25 major banks across major financial hubs. The regions or countries include the United States, United Kingdom, Europe, Southeast Asia, China and Australia.

Performance based long-term incentive schemes in the US, UK, Europe and Australia typically has a 3-year time horizon and the incentive pay-out is tied to achievement of key performance indicators (KPIs) such as total shareholder return (TSR) or return on equity (ROE) during the performance period. In contrast, 3-year time based bonus deferral without additional performance conditions are the most prevalent form of long-term incentives in Southeast Asia and China. In addition, median deferral rates for senior executives in the US, UK and Europe (50% to 60%) were nearly a double when compared to that of Southeast Asia (30%). Regional firms in Southeast Asia are still setting deferral rates by referencing to compensation threshold rather than prescribing a specific portion of deferred compensation for risk takers.

“Bonus deferral has been a popular retention tool in the banking industry, but the notion of viewing long-term incentive schemes as a risk management tool in Asia requires a change in the mind-set of both the Board and the senior management,” said May Poon, Partner at Pretium. “The essence is to enhance alignment of incentive payout to the time horizon of risks, avoid pay-for-failure through multi-year malus/claw-back and focus employees on sustainable long-term firm performance.”

The study also shows UK banks have already adopted incentive maximum on share based incentive which ranges from 3 to 6 times of their fixed pay to reduce risk taking behaviours. However, the caps are still significantly higher than the maximum of 2 times bonus cap advocated by the European Parliament in 2013. This shows regulators (especially in Europe) are stepping up their risk management efforts to reduce financial incentives that led bankers to take risky bets. The new rule will apply to all European banks and their overseas branches as well as international banks operating within the EU. In Asia, though hefty incentives are not as common, new regulatory developments in Europe will likely have a spilling effect globally due to global flow of talent and increasing business globalization.

“The bonus cap is potentially counterproductive as it might undermine the retribution of bonus claw-backs for misbehavior and poor performance and it will limit the flexibility from variable bonus in this highly cyclical industry,” said Robert Li, Partner of Pretium. “It is inevitable that the bonus cap will further reset the compensation baseline. With Asian firms continue to develop their international business; they need to reposition their compensation mix, pay levels, role of fixed pay for different functions and incentive strategy in order to attract and retain both European and local bankers.”

Source: Pretium Partners Asia Limited